bff5270 lecture 1 slides jw flexible printing

1

Copyright © NOT FOR RESALE. All materials produced for this course of study are reproduced under Part VB of the Copyright Act 1968, or with permission of the copyright owner or under terms of database agreements. These materials are protected by copyright. Monash students are permitted to use these materials for personal study and research only. Use of these materials for any other purposes, including copying or resale, without express permission of the copyright owner, may infringe copyright. The copyright owner may take action against you for infringement.

Department of Banking and FinanceBFF5270: Funds Management

Lecture 1J Wickramanayake and Robert Adés

Consultation hours are to be provided through MoodleE-mails: [email protected]

[email protected]• You can e-mail for short e-mail responses• Please note that you will get an e-mail response ONLY IF you use

your Monash e-mail address in line with Monash University email policy

• If VLE (Moodle) email messaging is used by BFF5270 students, email recipient gets the message: ‘DO NOT REPLY’ and it is not possible to get a reply from BFF5270 teaching staff

• BFF5270 students are advised to use normal Monash University emailing to get a response

• You can telephone unit leader: 9903 2403 and record a message slowly and clearly giving your Monash ID, your name, name/code of unit you are enrolled in and your home/mobile phone number.

2

Grade Allocation Weekly tutorial (Moodle) submissions 10% (there is a tutorial

class in the first teaching week) Mid-term in-class test 10% Group assignment 30% Final Examination 50% (must pass) Group assignment will be discussed and Assignment groups will

be formed in teaching week 1 (first) tutorial Form groups from among your own tutorial class Sign group designation form and designate 1 person as a

group leader Report to your tutor if you have problematic member(s) Solution – problematic member(s) can do the assignment by

themselves: it is a huge task for one student to complete.

3

Readings for this lecture:• SPH-BKM = BFF5270: Funds Management (customised textbook used

in this unit – available at Monash Caulfield bookshop), Chapters 1 and 3; • MTPM = Maginn, J. L., Tuttle, D. L., Pinto, J. E., & McLeavey, D. W.

(2007), Managing investment portfolios: A dynamic process, Chapter 1; • CFA-SPH= CFA Standards of Practice Handbook, pp.1-12; SPH-BKM,

Chapter 19 (last chapter); MTPM – Chapter 10 (pp.678-681).

OUTLINE OF THIS LECTURE1A: INTRODUCTION TO FUNDS MANAGEMENT

Overview of funds management Integrated set of steps undertaken in a consistent manner to

create and maintain an appropriate portfolio (combination of assets) to meet client’s stated goals

Portfolio Management Process Identify investment objectives; capital market expectations and

asset allocation Major Asset Classes

Equities; fixed income securities; alternative assets; international investments

Evaluating Funds performance Evaluating techniques and risk assessment

1B: CFA ETHICS CFA Standard of Practice Handbook (2014) – 11th Edition

What investors expect from a good fund manager and CFA code of ethics 4

Portfolio Managers Portfolio managers Responsible for delivering investment performance Full authority to make at least some investment

decisions Accountable for investment results

What investment problems do portfolio managers solve (see case study on next slide) To help clients meet their wealth accumulation and

spending needs To select the weights of asset classes such as

equities, bonds and cash 5

6

Review of Case (from SPH-BKM)Jean is retired and has approximately $700,000 in assets (see next slide for data). She earns a small amount of income from a part-time job, receives social security payments and collects income from investments. She owns her own home and has a modest lifestyle. Problem: Jean needs to decide how to best invest her assets

and set a spending policy. Key Questions: What do we need to know to best advise her? What do we need to do to determine the best course

of action? There are additional questions also in this case

study: students need to attempt this case please.

7

Data

The Asset Management Industry

Two Organization Forms Contract directly with a management and advisory firm

Relationship with client Customized Separate accounts

Commingling of investment capital of several clients in an investment company Offers a general investment solution Invest a pool of funds belonging to many individuals in a single

portfolio of securities Issue new shares representing the proportional ownership of the

fund For individual investors with relatively small pools of capital

8

Security portfolio(s)- Account 1- Account 2

Investor 1

Investor 2

Management and advisory firm

Fund Securities Portfolio

Investor 1

Investor 2

Investment (Fund) company

$

$$

$

$ $

The Asset Management Industry

9

Organization and Management of Investment Companies

Valuing Investment Company Shares The NAV for an investment company is

analogous to the share price of a corporation’s common stock.

The NAV of the fund shares will increase as the value of the underlying assets (the fund security portfolio) increases

All mutual funds’ buy and sell orders are processed at the NAV of the trade date

Total Market Value of Fund Portfolio Fund ExpensesFund NAV=

Total Fund Shares Outstanding

10

Closed-End Versus Open-End Investment Companies

Closed-End Investment Company Functions like any other public firm and its stock trades on

the regular secondary market The fund generally does not issue or redeem shares once it

is established The price of the fund is different from its NAV

Shares in American funds are issued at a premium to NAV of up to 10%, while British funds are issued at a premium amounting to at least 5%

After several months the shares may trade at a discount, which persists and fluctuates accordingly to a mean-reverting pattern

It is a puzzle for modern finance why close-end funds often sell at a discount from NAV in USA

Closed-End Funds: A Survey (by Dimson and Minio-Kozerski) (Financial Markets, Institutions & Instruments Volume 8, Issue 2, pages 1–41, May 1999 – can be downloaded through Monash University library). 11

Closed-End Versus Open-End Investment Companies

Open-End Investment Companies The company continues to sell and repurchase

shares after their initial public offerings The fund stands ready to issue or redeem shares at

the net asset value (NAV) Investors who buy or sell the shares may have to pay

sales charges (the load) These funds are normally called mutual funds Funds are generally marketed to the public either

directly by the fund underwriter or indirectly through brokers acting on behalf of the underwriter 12

Open- and closed-end funds Similarities:

Diversified portfolios Professionally managed Either actively or passively managed Required to distribute capital gains and dividends to shareholders Regulated

Differences: Closed-end funds are traded on a stock exchange Closed-end funds are bought and sold at market price, and the

transactions can be done throughout the trading day Closed-end funds use leverage to enhance their returns

13

Investment funds by objectives

Investment Company Portfolio Objectives Equity funds: They invest almost exclusively in

common stocks Bond funds : These funds concentrate on

various types of bonds to generate high current income with minimal risk

Balanced funds: They diversify outside a single market by combining common stock with fixed income securities

Money market funds: They invest in diversified portfolios of short-term securities

14

Investment funds by objectives

Global Investment Companies Funds that invest in countries outside Australia are

generally called either international funds or global funds

International funds often hold only non-domestic stocks from such countries as Germany, Japan, Singapore, and Korea

Global funds contain both Australian and non-Australian securities

Increasingly large number of investment companies offer both domestic and global products in their local markets 15

What do you need to know about a fund before you invest?

Need to look at a set of essential investment information: > The fund’s investment objective> Investment strategy (how does it plan to achieve the

objective?)> Asset classes invested in (equities: growth asset class;

bonds: income asset class)?> Risk profile > Expected returns> Historical risk-adjusted returns (performance) > Benchmarks> Expense ratio (fee structure)

.. Need to understand its investment process16

Funds Management

There are gifted investors: Warren Buffet, John Neff, Peter Lynch, George Soros, etc. For them, fund management is the art of stock picking. Portfolio management is secondary (interior

decorator/artist approach) For others, fund management is carried out through an

integrated and disciplined process of portfolio management

……... illustrated next page

17

Portfolio Management Process Portfolio Management is an integrated set of activities:

Specification and quantification of

investor objectives,

constraints and preferences

Relevant economic, social, political, sector

and security considerations

Portfolio policies and strategies

Capital Market

Expectations

Monitoring investor-related

input factors

(3) Portfolio construction &

revision

Asset Allocation, portfolio

optimization, security selection

Monitoring economic & market input

factors

(5) Attainment of investor objectives

Performance measurement

(1) (2a)(4a)

(4b)

(2b)(6)

Planning FeedbackExecution

18

Portfolio Management Process (1)… process begins with understanding investors’ objectives

(1) An investor’s objectives, preference and constraintsare identified to develop explicit investment policies

Investment Objectives Expected Returns Risk Profile

Investment Constraints Liquidity Needs Time Horizon Unique Needs and Preferences Tax Concerns Legal & Regulatory Factors

19

Portfolio Management Process (2)

(2a) Investment strategies are developed from the investment policy statement.

Scenarios can be developed. Simulations can be carried out Craft a strategic asset allocation (see additional

lecture notes in Moodle)

(2b) The Investment managers’ expectations about the capital market will also affect the strategic asset allocation process.

Long-run forecasts of risk and return characteristics for various asset classes

20


(3) Portfolio Construction and Revision, Asset Allocation, Security Selection, Implementation, and Execution

Strategic approach Tactical approach Quantitative approach in security selection Based on investment objectives and market expectations

21

Major Asset Classes in a Portfolio

Traditional investments Cash/Short-term assets (the money market) Bonds Equities

Traditional alternative investments Private equity investments Commodities Real Estate

Modern alternative investments Derivatives Hedge funds

22

Features of Alternative Investments

Have risk-return profiles different to common asset classes

Relative illiquidity, which requires a corresponding return premium

Improved diversification relative to stocks and bonds Complex investment structures, specific expertise, and

lack of reporting transparency Difficulty appraising performance due to complexity of

establishing benchmarks

23

Asset Allocation of Institutional investors

Bonds

40%

Equities

40%

Real Estate/ Cash

20%

24

Asset Allocation of Individuals

Profile of Wealthy individuals With Gross Assets Over US$1 million

Cash 6.0 %Common Stocks 31.2Bonds 7.8Life Insurance (cash value) 0.6Real Estate 23.6Non-Corporate Business 9.9Others (deposits, etc.) 20.9

______100.0 %======

25


(4a) Continuous monitoring of investor-related input factors

Change of risk/return preferences Change of liquidity/liabilities positions

(4b) Continuous monitoring of economic and market factors Changing economic landscape Changing socio-political situation

26

Portfolio Management Process (5)(5) Performance Measurement and Monitoring

Benchmarks for relative performance and investor-related objectives

Performance against benchmarks and targets Setting loss triggers: “loss in any given year (for

particular asset class and portfolio as a whole also) should not exceed x%

(6) Continuous evaluation for changes in the economic and socio-political environment may necessitate changes to investment mandates, asset allocation, security selection Process flows logically and systematically through an

orderly sequence of decisions Moves from monitoring back to policy determination in an

on-going manner Applicable for individual and institutional investors

27

What Do you (if You Are an Investor) Expect from a Professional Fund Manager?

What Do you (if You Are an Investor) Expect from a Professional Fund Manager?

1. Help determine your investment objectives and develop a portfolio that is consistent with them.

2. Diversify your portfolio to eliminate unsystematic risk.3. Maintain your portfolio diversification and your desired risk class or

risk level while allowing flexibility so you could shift between alternative investment instruments as desired.

4. Attempt to achieve a risk-adjusted performance level that is superior to that of your relevant benchmark.

5. Administer the account, keep records of costs and transactions, provide timely information for tax purposes, and reinvest dividends if desired.

6. Maintain ethical standards of behavior at all times.28

29

1B - Chartered Financial Analyst (CFA) Institute: Ethical and Professional Standards

1B - Chartered Financial Analyst (CFA) Institute: Ethical and Professional Standards

CFA Standards of Practice Handbook (latest edition)Please download using the link:

http://www.cfainstitute.org/learning/products/publications/ccb/Pages/ccb.v2014.n4.1.aspx?PageName=searchresults&ResultsPage=1

You can also download accessing BFF5270 library reading list:Please check BFF5270 Moodle for the reading list.

Ethics in Investments Financial markets are vitally important to a well-functioning economy Trust in information and faith in fairness are essential Codes of ethics for financial professionals and strict regulations attempt

to create such an environment where financial markets can efficiently fulfill their economic function

CFA Code of EthicsCFA Code of Ethics1. Act with integrity, competence, diligence, and respect and in

an ethical manner2. Place the integrity of the investment profession and the

interests of clients above your own personal interests3. Use reasonable care and exercise independent professional

judgment when conducting your duties4. Practice and encourage others to practice in a professional

and ethical manner5. Promote the integrity and viability of the global capital

markets for the ultimate benefit of society6. Maintain and improve their professional competence and

strive to maintain and improve the competence of other investment professionals

30

31

CFA Standards of Practice HandbookCFA Standards of Practice Handbook

Standards are organized into seven general topics:I. ProfessionalismII. Integrity of Capital MarketsIII. Duties to ClientsIV. Duties to EmployersV. Investment Analysis, Recommendations, and ActionsVI. Conflicts of InterestVII. Responsibilities as a CFA Institute Member or CFA Candidate

(See CFA Standards of Practice Handbook)

32


CFA Standards of Practice Handbook, pp.7-9I. PROFESSIONALISM

A. Knowledge of the LawB. Independence and ObjectivityC. MisrepresentationD. Misconduct

II. INTEGRITY OF CAPITAL MARKETSA. Material Nonpublic InformationB. Market Manipulation

33

III. DUTIES TO CLIENTSA. Loyalty, Prudence, and Care B. Fair Dealing C. Suitability D. Performance PresentationE. Preservation of Confidentiality

IV. DUTIES TO EMPLOYERSA. Loyalty B. Additional Compensation ArrangementsC. Responsibilities of Supervisors


34

V. INVESTMENT ANALYSIS, RECOMMENDATIONS, AND ACTIONS

A. Diligence and Reasonable BasisB. Communication with Clients and Prospective ClientsC. Record Retention

VI. CONFLICTS OF INTERESTA. Disclosure of ConflictsB. Priority of TransactionsC. Referral Fees


35

VII. RESPONSIBILITIES AS A CFA INSTITUTE MEMBER ORCFA CANDIDATE

A. Conduct as Members and Candidates in the CFAProgram

B. Reference to CFA Institute, the CFA Designation, andthe CFA Program

See CFA Standards of Practice Handbook - Solutions to End-of-Reading Problems


Problems and questions for students’ practice:SPH-BKM, chapter 1, review of case problem and last chapter: problem 4 (please go through it very carefully and attempt the questions asked)CFA-SPH, p.223 onwards: questions/answers are provided in CFA-SPH, p.237 onwards (and answers will not be made available through Moodle)Questions for tutorial submission under tutorial 2 will be made available through the Moodle in time.

Concluding Comments Portfolio (or funds) Management is an on-going process in which:

Investment objectives and constraints are identified and specified

Investment strategies are developed

Portfolio composition is decided in detail

Portfolio decisions are initiated by portfolio managers and implemented by traders

Portfolio performance is measured and evaluated

Investor and market conditions are monitored

Any necessary rebalancing is implemented

Ethical portfolio (funds) management is essential.36

bff5270 lecture 1 slides jw flexible printing

Documents